Kenneth Andrade On Indias Chance, Capex And Key Bets For 2022

Market veteran Kenneth Andrade is upbeat on the Indian economy and considers Indian equities as "a good place" to invest in 2022. The balance sheets of Indian companies were deleveraged in 2021, and they are now "only waiting for" the growth to return.

"There is an element of strength that is there to the economy or within the corporate sector," Andrade, chief investment officer at Old Bridge Capital Management Pvt., said in an interview with BloombergQuint’s Niraj Shah.

And he sees opportunity in the textile and steel sectors. Textile companies are debt-free and steel companies have cash reserves on their balance sheet, making them conducive for growth.

Over the next decade, Andrade sees two things playing out: the Chinese stop dominating the manufacturing market, offering an opportunity for countries like India; and a mismatch between demand and supply because of a new capex cycle linked to decarbonisation.

Read the full interview here:

How much of weightage would you give this year — if not in terms of positioning, then in terms of indicators like the dollar strength and flows?

Kenneth Andrade: Traditionally, we're not a big macro watcher. From a process point of view, I like to look at large industries (which is) where the pricing power in the industry is.

Over a long term period, if corporate balance sheets are in good health and corporate financials are coming back, there is an element of strength that is there within the economy or within the corporate sector.

But we will create a reasonable amount of a bull factor given that a lot of corporates in India and a lot of companies have seen the worst in 2021. Balance sheets are completely deleveraged. We are only waiting for that element of growth to come back.

There will be money coming back into all these businesses whether they come from domestic or foreigners. We should have a reasonably good trend. Some of these industries should trade positively this year.

We have a busy quarter and arguably a busy year with earnings, the Union budget, the U.P. elections, and the rising Omicron cases. Will these events impact markets and corporate India's earnings behaviour over the course of 12 months?

Kenneth Andrade: From a political framework, markets have always done well despite it. You need favourable policies to grow faster and you need a favourable macro environment to grow faster. That's something that politics can only enable.

On the Omicron cases and the pandemic, the world is getting used to living with it. We're through the worst. We will be able to take this forward. The medical fraternity has been able to answer most of the questions, (though) not all of them. So, I don't think that's too much of a risk.

What we forgot is that January, February, March is almost 35 to 40% of corporate India’s turnover. If we can deliver on that, we should go into FY23, from a corporate and economic standpoint, pretty robust.

In a round table in March or April 2021, you mentioned that if viewed slightly longer term, opportunities for investors would stand closer to where investors were in the past. Even if the ground realities have changed, you expected it to be very similar to the '90s. Has that belief changed or gotten stronger? How do you look at the year ahead and the decade ahead?

Kenneth Andrade: We have to find our advantages. Corporate India has to find its advantages and leverage on it for the rest of the decade.

What we saw between 2011 and 2020 was not great GDP growth rate, but it was driven by consumer and consumption-led economy or largely led by domestic growth.

We do look at the '90s as an example of what could be delivered. It was a period where you created fairly large industries that had capabilities of being category leaders globally. You had IT, pharma, and the beginning of chemicals.

If you look at the opportunity space right now, look at the textile industry. In the last 30 years of my investing career, I have never seen a textile business which was debt-free. You've got that.

You've got steel companies, quite a few of them, who got cash on their balance sheets or will probably have cash on balance sheets. You've seen that before and we know what it has done. You're probably seeing that cycle all over again.

If you look at banking credit, banks are stuck with no industry to lend to because everyone is super-solvent.

This is reasonably important because you can find growth, but if you don't have the balance sheet to leverage that growth, there is a challenge.

Today, you have the balance sheets, so you have got the financial leverage to capture any growth opportunity thrown to you. That's where a lot of Indian industries are sitting.

Find your niche and your capabilities. You can't own world trade, but you can dominate a couple of categories. We see a lot of companies in India have that mindset.

When you're catering to the Indian economy, you're catering to 3% of the world's GDP. And that can create reasonably-sized companies out there.

See the Indian companies that have gone international and scaled up globally, look at the size of cash flows generated, look at the size of opportunity they have captured or the learning processes in capturing the best practices globally. That's what I would look forward to in this coming period.

If I reflect upon the past, even if you assume that some of these opportunities were available, probably four industries may have done the main thing which is IT, pharma, auto ancillaries and in the last decade specialty chemicals. The others have been there, not quite moved ahead in the same pace, the industries were taken over by our neighbours, etc. What gives you the confidence that this time around, some of the other industries might come up?

Kenneth Andrade: I'm entrenched in the fact that inflation is here to stay. Take the world's largest manufacturer, which is the Chinese, and they stop selling (and there is) deflation.

Not just India, but even our neighbouring, emerging Southeast Asian countries will find spaces where they will capture market share from the Chinese. So, that is one of the bigger advantages that we have at least for the next two-three years. So, we will capture market share for the next two three years and then we will stall after that. It's a one-time opportunity that is there.

But what's coming post that is the capex cycle happening globally. Technology is going to change a lot of stuff and we already see that happening around us.

But what happens when you take your entire infrastructure business. When I say infrastructure business, that's just pointing to one industry which is power and energy. Converted from legacy fuel and legacy power plants to non-conventional energy. That's by far the biggest capex cycle the world will see 2025 onwards.

Then, go a step further and to the automotive field. Two things will happen. One is obviously we'll move to electric or alternative fuel. Secondly, you'll go autonomous. That spending itself will drive several industries.

I just highlighted two businesses. Both are very material intensive. So, the compounding factor of demand for everything else could be very disproportionate from the supply that we have had, which is why it will remain inflationary because globally, the governments are going forward for what they call decarbonisation.

The interesting part is there is no new supply coming from 2008 to 2020. There's no new supply in any of these products in that period of time. I think that will be where the demand-supply mismatch will be there.

Two things will play out in the next decade are the Chinese stop selling or deflation, and two, the mismatch of demand and supply because of probably a new capex cycle which is all linked to decarbonisation of the current industries that are operating.

Are you therefore not taking a bet on the other side, maybe not a fresh bet, but an existing bet? Are you riding that wave? Or are you completely shifting to the other side?

Kenneth Andrade: I think there will always be elements of our portfolio out there, which will be in continuation of the cycle. So long as we've got our entry levels right, we don't worry about that too much. But it's critical for us as to where we get to that trade because these things last forever. It's like a five-to-eight-year cycle.

In an eight-year cycle, some companies will not do anything for two-three years. They will just go sideways, which is also something that we'll have to get the stomach to go through. But those are all part of portfolio diversification, which is why you don't put all your eggs into one industry or any one particular stock.

What are your thoughts on IT?

Kenneth Andrade: IT has got a very strong probability of being a very dominant part of the index for a very long time.

I am just talking about services. Look at it from a standpoint of profitability and not from a standpoint of capitalisation.

Capitalisation is very different, and I'd rather hang my hat on profitability and capabilities. A firm with a capability to deliver Rs 20,000 crore of profit may deliver Rs 40,000 crore of profit sometime down the line. So, I'd rather hang my hat on execution capabilities rather than in something which I don't know how it will emerge or what the business cycle will be like.

Do you think there is a play there for electric vehicles?

Kenneth Andrade: If you ask me if electric cars will make money, they won’t make money.

What about the suppliers to them?

Kenneth Andrade: If I'm not making money, I will put all cost pressures behind me. So once that happens, the chain is very disruptive.

There are new themes which the market is still trying to understand. There is not a complete grasp of how one can invest in the green hydrogen business. Have you looked at this? Do you think there is a way to play it and in the private space or in the public space?

Kenneth Andrade: That's venture capital. I wouldn't know what technology will shape the future. But all I can say is that all of this will be very materialistic. I don't think even capital goods will make a big dent in this industry because if capital goods are struggling, it's struggling with the newness of the category. Nobody knows what it will take to succeed. But then, we have elements of the company that will do well. But it is not a space that we are in at this point of time.

What's your sense of the capex cycle and are you playing it?

Kenneth Andrade: Capex in India will also be there to drive capacity for the global market. You can't just sell in to the global market without having capacity. So, that's the cycle that all of us will have to align ourselves to.

My earlier expectation was that we will have domestic kickstart of the capex cycle because domestic growth could exist. But that's not going to be the case anymore. I think domestic growth will exist but this will be on the back of the fact that we go out and address 100% of the global economy. I don't think we've come to a phase where we can just get growth. We must go out and create capabilities and bring best practices here and kickstart the entire investing cycle.

In commodities and steel, they are not at the valuations they were at two years ago. If you are making a bull case, what is the bedrock of that argument?

Kenneth Andrade: I would not look at it for a valuation argument. I would just look at how much they put strength in their balance sheet with existing cash flows and continue to do the same.

Hypothetically, a business that trades Rs 1,30,000-1,40,000 crores of market cap generates between Rs 50,000-Rs 60,000 crores of market cap on a sustainable basis. Rather than look at the valuation of saying that it is cheap, your focus necessarily needs to be can it deliver Rs 50,000 crore of cash flows in the next year.

Chemicals went through a two-decade down cycle because every other country with manufacturing capabilities sat on India's advantages. You used to get these companies at two-year payback or a three-year payback, but there was no growth and suddenly you had growth emerging.

We must look at buying them at a reasonable valuation because that protects the downside and then create a hypothesis on where you will make money. Link the valuation of the cycle.

The next capex cycle is going to be very labour-intensive with no new supplies coming in. If that plays out, we'll put those two together, and maybe you'll have a robust outcome a couple of years from today.